Badger Meter, Inc. (BMI) Q1 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the First Quarter Badger Meter Earnings Conference Call. My name is Ann, and I will be your coordinator for today's call. As a reminder, this conference is being recorded for replay purposes. [Operator Instructions] I would now like to turn the presentation over to Mr. Rick Johnson, Senior Vice President, Finance and CFO. Please proceed, sir.

Thank you very much, Ann. Good morning, everyone. Welcome to Badger Meter's first quarter conference call. I want to thank all of you for joining us. As usual, I will begin by stating that we will make a number of forward-looking statements on our call today. Certain statements contained in this presentation as well as other information provided from time to time by the company or its employees may contain forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those in these forward-looking statements. Please see yesterday's earnings release for a list of words or expressions that identifies such statements and the associated risk factors. Let me reiterate some of our guidelines. For competitive reasons, we do not comment on specific individual product line profitability, other than in general terms, nor do we disclose components of cost of sales, for example, copper. More importantly, we continue our practice of not providing specific guidance on future earnings. We believe specific guidance does not serve the long-term interest of our shareholders. Before I talk about the first quarter results, I do want to remind you that our acquisition of Racine Federated was completed on January 31. And their results for February and March are included in our quarterly results. Just to recap, Racine Federated brings us additional flowmeter technologies, operating under various brand names into markets such as oil and gas, energy and resource management, mobile diagnostics, petrochemical, construction and the like. As a result of purchasing Racine Federated, we have also decided to discuss and present our product line sales in a slightly different format. In the past, we referred to water applications and specialty applications with the former, including any meters associated with water measurement. Going forward, we will refer to sales of meters to municipal water utilities as municipal sales. This includes residential and commercial water meters and related technologies. Other -- excuse me, other nonutility water meters, as well as meters used for measurement of other liquids and gases will be referred to as industrial flow. Finally, sales of valves, concrete vibrators and radios for the natural gas industry will be referred to as specialty products. Now on to the first quarter results. Yesterday, after the market closed, we released our first quarter 2012 results. I'm pleased to tell you that total sales for the first quarter of 2012 increased nearly $18.8 million or 32.8% to $76.2 million compared to $57.4 million during the same period last year. Obviously, some of this increase was due to the inclusion of Racine Federated sales for February and March, which totaled $7.4 million. The remainder of the increase was due to higher municipal water sales and higher sales of industrial flow products, offset by lower sales of specialty products due to fewer radio sold to natural gas utilities. Let's explore each of these categories. Municipal water sales increased $13.4 million or 34.4% from $38.9 million in the first quarter of last year to $52.3 million in the first quarter of this year. This increase was due principally to higher sales of residential meters sold with technology and higher sales of commercial meters. Sales of our ORION AMR technology products increased 36.1%, while sales of Itron-related products increased 18.3%. In this most recent quarter, ORION-related products outsold Itron-related products by a ratio of 3.1:1. The revenue increases were driven by higher volumes of products sold. While manual residential meters were down slightly, commercial meter sales increased more than 50% in the first quarter over last year's first quarter. Sales of the GALAXY fixed network-related products increased 80% on significantly higher volumes. We believe the overall volume increases represent a return to more normal buying patterns following period last year where there was considerable uncertainty in the market about a number of factors, including municipal spending and slower housing starts. I think what we've seen so far this year is some stability returning to the overall economy, and hence, the resumption of normal buying patterns. Sales of industrial flow products increased $8.1 million or 84.6% to $17.7 million from $9.6 million in the same period last year. Racine Federated sales represented $5.9 million of the $8.1 million increase here. The remainder of the sales increase for this group was due to higher sales and higher volumes in nearly all product lines due to higher volumes of products sold. Specialty product sales decreased $2.7 million in the first quarter to $6.2 million from $8.9 million in the same period last year. This category includes sales of concrete vibrators from Racine Federated whose sales were $1.5 million. This category also includes our valve sales, which did see an increase. However, the category as a whole was significantly affected by lower sales of radios and natural gas utilities. We have referred to this over the past several years. We had a significant order from one particular customer, which was substantially completed last year. While we hope to have some additional sales for this customer in the future, we did not see anything of substance from the first quarter. The gross margin percent for the quarter was 37.9%, higher than the 35.6% in last year's first quarter. The addition of Racine Federated products, which carry slightly higher margin, as well as the overall volume increase, helped push the margin percentage higher. Material costs for castings were also slightly lower this year as a result of lower metal costs. Selling, engineering and administration, our so-called SMEGA expenses, for the first 3 months of this year increased $3.5 million or 22.9%. Most of the increase was attributable to the addition of Racine Federated. In addition to the regular SMEGA expenses assumed with the acquisition, we have also -- we also have amortization of certain intangibles that were identified and capitalized as part of the acquisition. Interest expense for the quarter was slightly higher than last year as a result of borrowing funds to pay for the acquisition. We are currently utilizing our short-term line of credit and hope to have a new financing package in place sometime during the second quarter. The provision for income taxes for the quarter was 37.4%, slightly higher than the 36.4% last year. As a result of all these, net earnings from continuing operations were $6.2 million compared to $3.3 million last year. On a per share basis, this equates to $0.42 per diluted share compared to $0.22 last year. Just a quick note on our stock repurchase plan. If you recall, in November, the Board of Directors approved the stock buyback program for up to $30 million over the next 2 years. This program commenced in February of this year and through March 31, the company has repurchased 520,000 shares at a total cost of approximately $17 million. Because the program did not start until mid-February, the impact on earnings per share was less than half a penny for the current quarter. A quick review of our balance sheet shows increased receivables, inventories and property, plant and equipment [ph] due primarily to the inclusion of Racine Federated. In addition, on a preliminary basis, we have identified approximately $30 million worth of intangible assets and approximately $25 million of goodwill associated with this transaction. On the liability side of the balance sheet, we have recorded deferred income taxes of about $12 million as a result of the purchase price allocation write-off. And because of the acquisition and stock repurchase program, we have debt on the balance sheet again. Our debt-to-total capitalization ratio at March 31 was approximately 28%. Cash generated from operations for the first 3 months of 2012 was approximately $10 million compared to $5.2 million for the first 3 months of last year. Increases in receivables and inventories were more than offset by the increase in earnings and higher income tax and accounts payable balances. With that, I will turn it over to Rich for his comments. Rich?

Thank you, Rick, and thank all of you for joining us today. I'm going to be brief. Obviously, we are very pleased to see our markets return to normal levels after a rough second half of last year. As you may recall, we mentioned on both our second and third quarter calls last year that we were seeing weakness in the markets for the second half of 2011. We also said that these situations tend to last about 2 quarters in our industry, which is exactly what happened. Then on our most recent call in February, we stated that we were seeing some strength as we entered 2012. As we had hoped that strength continue through the first quarter, since we are taking some credit for being right on past calls. I also have to confess that we are wrong about something else. On the last call, we said that we expected the Racine Federated acquisition to be accretive in 2012, but that we did not expect to see any benefit until the second quarter due to the inventory write-off. As it turns out, inventory write-off was much smaller than what we had expected and Racine Federated actually contributed about $0.03 per diluted share to the first quarter. We've been very pleased with the many synergies that we've found in the manufacturing, sales, marketing, engineering and administrative functions. As we move through 2012, we expect to achieve more integration benefits and for Racine Federated to continue to be accretive to our earnings. Regarding our municipal water business, we are continuing to invest in research and development projects to maintain our technological advantage in the marketplace. Our new advanced metering analytics products, including the ORION SE two-way radio, have good market acceptance and are providing our municipal customers with systems and information they need to maximize their utility operations. And our E-Series ultrasonic water meter continues to perform well for our customers. We expect these products to continue to drive higher sales in future quarters. Looking at the rest of 2012, after a solid first quarter, we expect to see continued strength in the coming periods. I will, however, remind you that the second quarter of 2011 was a record quarter for us, making it a difficult comparison against the upcoming quarter. Nonetheless, we now believe that our municipal water markets have returned to normal buying patterns and assuming the economy continues to improve, we're optimistic about the balance of the year. And as I said, I could make comments brief, so with that, we'll take any questions.

[Operator Instructions] And our first question comes from that line of John Quealy with Canaccord Genuity.

A couple of quick housekeeping questions. Why in those step-up charge for Racine's inventory or why smaller than expected?

It's interesting. When we got in there, when we looked at the place, their inventory looked very familiar to ours. In other words, there's a lot of components. The components come together when you put a finished product out the door. Unlike us, though, if they purchased all those components, so they're considered raw materials, whereas we make most of our components ourselves. So while we were expecting a big step up when actually looked at it, most of the inventories considered raw material and you don't write that off. And they had very little work-in process because they turned orders out in a matter of days, and so virtually, no finished goods, very little work-in-process, that's why the step-up was so small.

Okay. And in terms of the gross margin improvement, that was pretty much all driven by absorption and mix on the muni business for the quarter, is that right?

I'd say absorption mix, lower metal cost and then the addition of Racine Federated products. Those products like our legacy industrial products, if you want to call them that, do carry higher margins. So it's a combination of all of that.

And Rick, can you at least point us in the right direction of the margin profile of Racine? Where should we be thinking about it, above this number that we reported?

Yes, absolutely.

Okay. So in terms of -- Rich, your comments about return to a normal buying pattern in the market. When we did our channel checks this quarter, we got a lot of warm weather types of comments, as well as -- even so much so some folks are considering it a pull-forward of Q2. A, do you see that happening? B, why do you think this isn't just sort of a one-off blip and we're still volatile as ever but this time to the upside?

Yes. I do think that the warm weather probably helps a little bit compared to a year ago when there were more storms that slowed some installations. But that's not what we're hearing from the field. What we're hearing from the field is that there's just a lot -- and people are a lot more comfortable with the fact that there's not going to be some kind of national budget crisis or the states aren't going to come in and grab all the water utility money and use it for pensions and other things. So we're getting more customers. We're saying we were concerned, we wanted to hold off, now we're moving forward. I can say that coming into the second quarter, we're continuing to see strength. Where we've got a stronger backlog than we had a year ago. We don't disclose backlog during the year, but it's obviously up pretty significantly. And we see -- we like what we see coming into the quarter.

And let me just add, last year we said a lot of this municipalities used a lot of their internal funds for snow plowing. I mean, and that actually when we said it was a municipal spending problem, we didn't know it's because they didn't have money because they spent it for snow plowing or whether there was also the crisis. Well, this year they didn't spend any. We didn't even spend much here in Wisconsin. The very mild winter, I'd say, did help but I think it helped financially also a lot of the municipalities.

And my final 2 questions. First, good to see some material movement in GALAXY. Can you talk about the number of RFPs or opportunities you're trying to touch with GALAXY? Is it getting pitched more? Or how should we think about GALAXY now?

I mean, we are seeing an increase in GALAXY and I would say that compared to a year or 2 years ago, we're seeing more RFPs coming in, okay. However, you also have to remember that to some extent, GALAXY serves a certain market niche where they say, "I want to fix network, I'm certain of that. Give me GALAXY, give me what the features it has." But we also offer ORION SE and ORION SE also works with the network. So going forward, we're going to have some utilities that may opt for the ORION network over the GALAXY network and that may have some impact on it. But right now, yes, we are seeing increased interest in GALAXY. They both serve an interesting market need.

And then lastly, with that Pentair Tyco industrial flow, I mean clearly, it did consolidate that channel a little bit more. I know you guys are a little bit more targeted, but do you see any channel conflict as a result of that or is that impacting your business at all as you can tell vis-à-vis Racine?

No. Pentair, they do a lot of pumps and valves and things of that sort, not at all in our area and we have run into the middle.

And our next question comes from the line of Richard Eastman with Robert W. Baird.

Rick, could you just really quickly, these 3 new segments now or 3 new product categories that we're going to talk to...

We are listening.

Could you just give the comparison number? I think I've got your split on the first quarter here. But what was the muni water like first quarter of '11. You went through that a little quick for me.

You want the same number here. It's up. Muni water is up 34.4%. It's up $13.4 million.

Okay, all right. And obviously, that's not a pro forma, right?

No, that's a -- I mean, no, not a pro forma.

So we're seeing Federate is not on those...

Racine Federated had no impact to muni water at all. They don't play in muni water at all.

That's our old muni water business.

And your other comps, nonutility and specialty products do not include any RFI that's not pro forma.

No. The industrial flow does include RFI.

But for the first quarter of '11?

For the first quarter of '11 -- okay, when I said it's up $8.1 million, nothing in there last year for Racine...

Okay, that's what I am saying. [indiscernible] by split, okay? And then I know you're not going to want to do this going forward, but we were trying to just get at the gross margin for RFI in the quarter. There was some step up and if I look at the 8-K that you filed, was RFIs gross margin contribution kind of maybe 50%, a number like that?

It was comparable to what you saw in the 8-K, yes.

Okay, okay, all right. So it will be closed there. And then was there -- the Duke gas shipments in the first quarter of last year, I think, was pretty heavy number, like $7.5 million or so. Is that in the ballpark?

That's a little high. It was probably more in the $5 million, $5.5 million range.

It was. Okay, all right. And then just maybe last question, how does that gas modules, ORION gas market -- how does the pipeline look? Are there any meaningful projects that have just moved further down in the pipeline here?

There are 2 opportunities in -- significant opportunities in gas. I mean, we've got 100 customers out there but there are a lot of small ones. But the significant opportunities obviously is an opportunity for us if Duke decides to continue to install and expand what they're doing. And that we recognize is a very significant potential. Duke has not started it up yet, but there's a lot of service territory that they have that they're interested in using our system on. They like the way our system was performing, and we think we've got an opportunity there. There is also another large utility that we have not named that we have in -- a bid in, and we're pursuing it. So that could come along although I wouldn't necessarily bank on that for this year. Our Duke expansion is possible this year. The other one is more of a 2013 opportunity.

Okay, all right. And then, Rich, one last question. When I look at maybe the core growth you pull out Racine Federated. And I look at the core growth in the business, sequentially. Typically, from Q1 to Q2, you do see a bit of a double-digit increase that maybe be typical to seasonal increase. Would that be a reasonable assumption given your commentary about the tone of business, about weather maybe, maybe not being favorable? But it's that kind of where you'd feel comfortable saying if you just look at historic seasonal patterns. At this point in time, it feels like we've returned to those.

Well, Rick, you wouldn't be trying to give me your forecast, would you?

Well, it's a [indiscernible].

You know we don't comment on Europe now.

Well, I think the weather thing is interesting, because obviously the fourth quarter was quite a disappointment on volumes. And the weather has impacted the business historically. And again, you're suggesting that maybe the marketplace is back to just traditional buying patterns. So that's the way we should think of the business progressing through this year.

That's how I feel, Rick. Traditionally, the second and third quarters are our stronger quarters and one of the reasons they're our stronger quarters is because the Northern utilities are impacted by the weather, although we've got some years where the southern utilities have been impacted by the weather too. But generally, it's the northern utilities that are impacted and they slow down their buying in the fourth and first quarters. So yes, I'm optimistic about what's going to happen in the second quarter. Everything I'm looking at says [ph] we should have a pretty decent second quarter.

And our next question comes from the line of Carter Shoop with KeyBanc.

So when we think about the orders, I know you don't like to talk a lot about backlogs and order trends, but you talked about January last quarter being up 20% year-over-year. I was hoping you can give us a little bit of color on how thus far in April the order trends are going? Are you seeing that strong continuation?

Yes, the problem, Carter, is that at our last call, we did the call in the middle of February. So we've pretty much had January under our belt and I was comfortable commenting and even though I don't normally comment on the first month of the quarter or how the orders coming in, I've talked last quarter that we were seeing such a strong turnaround that I needed to signal something even though I don't do forecast. So I'm a little uncomfortable getting back to into that again where every quarter I'm going to be saying, "oh yes, thus far this quarter we're seeing something." Because now I'm not a month and a half into the quarter. I'm 2 weeks into the quarter. And it's just not enough to really even determine the trend. All I can say is my backlog is up and I feel pretty good about what I see.

Fair point. When you think about commercial, I think you said up 50% and GALAXY up 80% year-over-year. Were there any large orders in that or is that more of a broad-based pick up?

I'd say it's a more of a broad-based pick-up against a very weak first quarter last year, which I want to [indiscernible] remind you also.

Got it. And on the large gas contract. I just want to confirm that you didn't see any shipments or orders in the first quarter of 2012.

2012. No. Nothing of the stuff.

And then the debt-to-cap ratio at 28%, the highest level it's been in a while, if not ever...

No, it's been higher. We've got it north of 45%. Yes.

Okay. I guess my mind doesn't go back that far. Yes, the 28%, so do you feel comfortable taking that a little bit higher if the right opportunity emerges or...

Absolutely. Our Board of Directors has stated that they are -- comfortable for a company like ours, they're very comfortable in the 30% to 40% range. We start going to 40%, they're going to start it. And we've gone over 40 in the past but then they start to saying, what is the plan to get it back down again. So we do feel there's still some room to move up for the right opportunities.

And Carter, I think it's important that you understand. We think we've spent over the past 5 to 10 years, we've moved -- we've used cash going from lease facilities to own facilities. We got a pension that's virtually fully funded and our anticipation is that we will continue to generate cash. Therefore, even if we found the right opportunity and took the debt ratio up, as Rich said, north of 40%, I think we can demonstrate that cash flow would bring it down fairly quickly.

With all that said, can you talk about how the pipeline looks right now for potential deals?

Yes, and you know, we are not a company that's out there churning in an acquisition every 6 months or even every year. We're very selective in what we do. We don't necessarily like to get in the bidding situations. Recin Federated was not a bidding situation. It was a relationship that we had built over the years with a very good Wisconsin company. They respected us, we respected them. And we were able to come together on what I thought was a very good deal for both sides. Similar situation was when we bought Remag in Switzerland. So we have other relationships with companies where the owners have said, "You know, when the time comes to sell, I would really like to talk to you about. I think you guys treat my employees right, you treat my community right, you'll treat my customers right." And it's usually a seller who's interested in more than just the dollar. They've got some other interests. As an example, the family that owned Racine, [indiscernible] he was very interested in their other stakeholders and making sure that they are treated fairly. So we're not out there participating in a lot of RFPs and in our industry, in the metering industry, there aren't a lot of RFPs to participate in. We found a better strategy is to build this relationships over the long time, over the long term. We have 3 or 4 companies that we have relationships with and the day may come when there's a good play there. But we're not pushing it and if they're not ready, that's fine with us, but when the time is right, we will try to make an acquisition. So we're always open, we're always looking, but to be able to say I've got 2 or 3 in the pipeline and I'm going to close one before the end of the year, there's just no way I can say that.

Got it. Last question, Cleveland projects, can you give us an update there?

Yes, we just looked at it.

I don't think we have substantial shipments in the first quarter. We don't expect it to ramp up to sometime later this year. May not see a lot in the second quarter either.

I thought we saw some orders come in for Q2. I think we -- yes, they're signaling to me that we did. We did have some orders that came in for Q2. So we should start seeing some shipping in the second quarter.

Okay. And maybe getting that full volume level towards the end of the year?

It depends upon how quickly Cleveland ramps up, but yes, that is a potential.

And our next question comes from the line of Ryan Connors with Janney Capital Markets.

So I wanted to just kind of explore this notion of normalization in the end market a little bit and I wondered if you could talk about which types of customers -- is it the larger cities that you're seeing come back in, is it the smaller one, is it across-the-board? Just be interested in your thoughts, what you're seeing in that regard. And then also on the types of projects. I mean, is it upgrades and AMR and AMR/AMI rollouts that have come back or is it more of your book ship type of repair replacement business that is driven the normalization?

Well, I'd say first of all, on your first part of your question, I'd say it's more broad-based. It's the regular-sized cities, the small ones. The occasional big ones. There's no -- it's a standard pattern from what we've seen in the past. In terms of AMR and AMI, a lot of it is replacement but it's the replacement where they're also upgrading to technology at the same time. If you noticed I commented that our manual read meter sales were down a little bit. That doesn't disturb us because all that signals to us is that there's more of them that are adopting technology when they do order the replacements.

I would say that's right.

Okay. Just on the competitive dynamics and pricing and so forth. Obviously, 2011 was pretty tumultuous year and the industries. Have you seen any of the players change their behavior in the marketplace, whether it be on pricing, whether it's how often they're showing up on and where they're showing up. Is there any changes that you'd perceive in a competitive environment?

No, we haven't seen anything and I don't think market share shifted dramatically in 2011 either from what I can tell. Obviously, some of our competitors -- one of our competitors went public, and I think another one is on the verge of doing something. And whenever that happens, it causes a little disruption in their operations. But we didn't really see any big change in the competitive environment in 2011.

Okay. And then same goes with pricing. I mean, you haven't seen any notable downward pressure or anything like that?

No, and even with copper having come down a little bit, I think a lot of us didn't have the copper fully priced into our products, so when it was over $4, we were hurting a little. And now it's come down under $4 and not just [ph] be hanging there for a while. We're not seeing the pressure from the customers because we didn't raise prices equivalent to the increase to begin with.

And our next question comes from the line of Zach Larkin with Stephens.

This is Chris Godby in for Zach Larkin. So first and foremost, obviously, we've touched on this a little bit. Gross margins were very strong in the quarter and I guess a bit of that is attributed to Racine. But you view this levels as sustainable, how should we kind of think about it going forward?

I guess I think they could be sustainable depending upon the mix staying where it is. If we continue to have the strong mix of the industrial and technology over the local read but where our margins can swing around, obviously, they're impacted by volumes, so assuming sales stay strong like we expect. But where they can jump around a little bit, Bob said we did a very large order for manual read meters, which obviously carry a lower margin. Sometimes, those come out of Mexico, and we'll take them if we've got the space in the factory and it makes sense and it's just incremental business. So that can actually cause somewhat downward pressure on the margin and that is a more likely scenario than any kind of significant price decrease or something like that.

Okay, that makes sense. And then other question I have for you. Given the acquisition, how should think about SMEGA going forward? Is there a certain target you're looking to hit or is there certain percent of sales in number which you have in mind?

Well, I think, well, obviously, SMEGA is going to go up, I talked a little bit about it. We have amortization of intangibles. I think we've identified $30 million of intangibles and assuming a 15-year life, there's an additional $2 million charge a year. I would say that we haven't gotten all of the synergies out, okay, and that will be hopefully getting some of those later in the year but there will also be the onetime charge of getting those out as we make those decisions. The real question is this, "How much?" And I'd say right now, we haven't really determined that but there probably is some available.

And obviously, since SMEGA is really overhead, we'd like to keep it as low as possible but on the other hand, since my salary is in there, I don't want to keep it too low.

And our next question comes from the line of Brian Rafn with Morgan Dempsey.

Maybe a comment, Rich, and we've got to beat this horse to death but I'll ask it again. When you look at the reflation in demand and you look at normalized traditional buying patterns, is there any historical evidence that you have may be in the first couple of quarters as you come out of the reflation some pent-up or layered in demand or does it just restart and there really isn't any pent-up demand?

No. I think there is some pent-up demand. I do think some of the utilities last year maybe -- anecdotally, I know some of them extended their change-out programs. I talked to some of the larger utilities and there are certain ones who'd say, "Look, we buy a policy change on all our meters every 12 years." Other one say every 15 years, the other one say every 18 years. And when they get into a period where municipal budgets are tight and they're a little worried about things, they can stretch that out. They could not change out those meters for a year. Or if there's blizzards or they're snow plowing or whatever, they can actually stretch that out. maybe for a year. There's very few utilities that normally change out their meters at 15 years, they will go much beyond 16. They might go to 16, but they won't go much beyond. So it's possible that some of the utilities last year's said, look we're just going to hold off in changing off meters for a while and we will start up in next year. So I do think there could -- you're right. There could be some pent-up demand that we're benefiting from this year. I don't think it's huge, I don't think it's what's driving our strength now. I really think our strength is more of a return to normal.

Okay. All right and in some of your discussions, have you been able to anecdotically sense -- you talked a little bit about while we're assuming that there's not going to be a state budget crisis or funding. Are you getting any sense that they're or you're hearing anything from the municipalities that you're starting to see a little resuscitation in tax revenue flow?

Well yes, I mean, most of the utilities do not depend on tax revenue flow. They depend only on their own revenue. But even those utilities get a little nervous when there were a budget crunches and layoffs in the city and all that stuff. What our utilities do depend on is the state safe drinking water revolving funds. Those are funds that every state gets from the federal government and then they use that to make interest-free loans for these utilities or grants to these utilities to help them with metering programs and other upgrades to their systems. When those funds are in jeopardy, when the -- if the federal government starts talking about well we don't know what we're going to be able to fund, that's when our utilities get a little bit nervous. And I think that's what happened last year. They were a little worried whether or not those funds would be there at state level and whether or not they would have access to them. So that's what caused a little concern. That's whole talk settled down and I think that's why we're seeing this return to normal.

Okay, all right good. parallel to that, have you also seen a reflation of both large commercial and utility meters, some of larger size meters?

Yes, we've seen recovery on both the residential and on the commercial side.

Okay. And relative to Racine Federated, your association with them, do you guys get any leverage from maybe helping them as the parent with CapEx or sharing technology, utilizing manufacturing capacity at Badger Meter or are they strictly a standalone?

No. In fact, we are -- I would say, we are integrating Racine faster than we expected, both on the personnel side where we have actually moved some of their people up to our corporate level because they've got some real talent down there and where we've been able to provide support in areas that they haven't had before. So we're getting some synergies there. But there are huge synergies on the technology in that we've got these large flow lab just 20 miles north of them in the Milwaukee that they can now use, whereas, before, they would -- I'm sorry -- how many miles?

40.

I just shrunk the City of Milwaukee. We're 40 miles north, which they can now use and they now have access to and our engineers are starting to talk to them. Frankly, Racine was a family-held business and family-held businesses always have an issue of where they're going to get cash for CapEx. Because there are family members who say, "No, I'd like more liquidity in my ownership as opposed to reinvesting all of the money." So with -- as most with most family-held companies, CapEx is the problem. Now that they're part of Badger, we're able to provide them some of the capital that might not have invested in the past for good growth opportunities. We're certainly doing that.

Okay, when you look at your deal pipeline, Rich, you talked about having 3 or 4 relationships that you guys kind of built on organically. Do you see the propensity from your standpoint in successful acquisitions that they're better with the ones that you kind of husband and grow organically or versus something where a banker shop newer deals.

Absolutely, the ones that we do privately worked out. We get a better return on them and it's a better relationship all around. Generally, it's a company that has sought us out because there's some cultural synergies there. They like us, they like how we operate, we like how they operate. When you're buying something that the banker is selling, it's a little more of a gamble.

Okay, okay. And then Rick, the short-term debt, is that reclass? You mentioned I think earlier in your comments about the banker relationship you're tying up to financing, is that going to shift more toward long term as we get out the next couple of quarters?

Yes, in my opinion, long term is 2 to 3 years right now, just based upon our cash estimate. It's very possible that 2 or 3 years from now, we're out of debt again.

All right, you get any CapEx budgets for Badger for the year?

We generally don't talk about the budgets for CapEx. But we have said, and we could say it again, is that when you look at rolling 3 to 5 year periods over the next several years, capped 1 year, may be $1 million higher than depreciation the next year. So if you had depreciation and amortization, CapEx should not exceed those totals on rolling 3 or 5-year periods.

So about a parity then basically?

Yes.

Okay, okay. And then maybe just finally, you talked about the old manual reads. Is that, you mentioned like the corn oil from Mexico as we go up in the next 5 years, how much diminishment might we see that or might there be a day where that might just be a discontinued product?

Well, it's the same product, okay. I mean, it's a meter, okay, and it's just matter of attaching a radio to it or not. So it's a category, we put it in but the underlying manufacturing is about the same. Well, But Brian, we're about 55% to 60% of the meters, we ship out radios on them. And 40% to 45% are still manual read meters. The question you're really asking is okay, how far can that grow? 10 years ago or about 30% of the meters we sold at radios and the rest were manual read. So the market is slowly converting to technology. Can we get to 70% or 80%? Yes, I think, we definitely can. Can we get to 100%, I don't know there may always be some city out there that prefers to have meter reader walking door-to-door. But clearly, the utilities recognize the benefit of technology and they're moving towards that.

And I also think if you look beyond that 5 to 10 year horizon there maybe a day when all the meters we make have radios. There was a day when television sets you paid extra for the remote-control, now you by $50 one at Walmart, you expect it to have a remote-control. That took 40 to 50 to so happened but eventually it may happen because it maybe just cheaper to manufacture them all with a radio built in, but that's really out there in the long-term horizon. --

Okay, and then buying some of the balloon niche industrial categories separate from your core municipal business, how do you see some of those small little niche business as it kind of reflates?

Well, I think at the -- we've always said this is one of our industrial product lines, they ebb and flow with the economy. And I think I said nearly all of them have shown increase Q1 -- over Q1 last year. So I mean, they're growing, they're growing, they're coming back with the economy. So Brian, I'll give you one more question because we've got people in queue here.

And our next question comes from the line of Richard Eastman with Robert W. Baird.

Two things. One is are you seeing really what you might term a significant uptake on these AMA product, ORION SE with AMA. I'm curious because you're ORION sales is up 36%. I'm curious if it's a very meaningful uptake of the AMA product, the software content product. I mean, just simply from a margin profile standpoint, is that helping you dramatically or is this a rebound in a more traditional ORION product line?

I would say that the AMA is not helping us dramatically yet, okay. We have a lot of utilities that are ordering limited quantities, installing them and then -- you know our utilities, they'll run -- some will run for 6 months, some will run for one year before they'll make any major commitment. We are still in that phase where a lot of the utilities are buying and running them that way. So we are not looking at millions of dollars of sales of that.

On the other hand, we sold almost a $1 million worth of ORION SE in these past quarters. It's gaining some traction. And I'll remind you that we entered -- I guess I'm mixing this up. It's the Easter is that when we introduced the results [ph].

Correct.

I think ORION product line in the quarter of last year was down about 30%, right? So pretty easy comp. Okay, and then just on the RFI, 2 things. One is, if I do the quick math on the contribution that it had for 2 quarters, the annualized kind of revenue run rates around $44 million, would you -- is there any seasonality in that? Do we expect a little better revenue out of that?

Yes, I would say, if you're looking at the fourth quarter and the first quarter and you're saying that we expect an improvement, I would expect an improvement as we go to the second and third quarter.

Okay, synergies on that. I know this isn't a cost-reduction exercise at RFI. I mean, you've talked to that. But I am curious, there's about 4 -- if you look at their sales line and their sales contribution, there's 4% to 5% amortization that you now run through there on the cost side. If I look at the 8-K that you filed, there -- kind of EBIT margins were in the low teens. And I'm trying to figure out, I mean, what do we expect from their EBIT contribution as the year unfolds or even into next year? I mean, is there 300 to 500 basis points of leverage there or...?

I think, I don't want to comment on how much leverage is there. I think there is leverage and we're going to see but the other thing is, as we move through this year and we start taking some synergies, we're also going to start taking some costs because if we decide there are some redundant positions we want to eliminate, there's going to be some severance with that. And frankly, we tend to be fairly generous with our severance for badger, I mean, it's part of our culture. So we're going to be incurring some costs. So I don't think you're going to see some significant pickup in those EBIT margin points yet this year. I think it could be more significant in 2013.

Where we really hope to get the synergies is to be able to take their products into our customers and our products into theirs.

Right. It's the sales and the marketing channels where I we've got a bigger opportunity.

Sales synergies versus costs.

And our next question comes from the line of Glenn Wortman with Sidoti.

Can you just comment now on your normalized gross margin on a full year basis, what you're seeing and then maybe a just traditional mix between the automated and manual readers over a full year?

Historically, we've always said we operate in that 35% to 38% range. And obviously, if we continue to sell more and more technology, those do carry higher margins. We hope to draw that margin up. We said Racine carries higher margins. You add that to the mix, that's a positive. But again, I'd go back to something Rich said, this quarter was weighted heavily. I mean, we have big sales in ORION, which carry higher margins for instance Itron and obviously carry higher margins than local read meters. All of those factors play in there, as well as metal costs and capacity utilizations. So that neighborhood of 35% to 40% is our neighborhood but a lot depends on all of these factors and how it influences us.

Okay, and then I'll just try and get a better sense of the SG&A run rate on a go-forward basis for the full quarter of Racine. So what would 1Q SG&A have been if you had Racine for the full quarter?

I'm not sure any of us can answer -- Glenn, I'm sorry, I don't think any of us are willing to take a shot at that because we don't have the numbers in front of us right now.

But we should see sequential uptick in SG&A, just given the agenda fourth quarter?

If you're going to add one more month.

And then finally, you talked about a return to a more normalized buying patterns. Historically, what would you say with your typical growth rate for the muni business and a more normalized environment?

I would say that our long-term expected growth, what we believe should be doable is that the water side of our business with the technology should be growing at high single digits, low double-digit each year. And that our industrial side is going to grow a little closer with the economy, so maybe as economy goes, it's going to go -- it could be mid-single digits in that range.

Actually, just 2 more quick things here, the depreciation and amortization for the year end then full year tax rate, if you have it.

For full year -- whatever I estimate year-to-date for taxes is generally where we think it's going to wind up for the year. I'll acknowledge the changes in the year but so do our estimates. Depreciation, you can probably look at that, you got to factor a little bit in there for the missing month for Racine but that's probably not that significant. So you can probably use what you see there and come up with a reasonable estimate.

Okay. [indiscernible] tax rate, you're saying you were 37% in the first quarter that's...

That's my estimate for the year.

And our next question comes from the line of Eric Stine with Northland Capital.

Maybe just on ORION, you touched on many of my questions. But on ORION, could you just talk about some of the feedback you're getting from the field? Sounds like it hasn't really impacted results much yet, I'm just curious when you think that starts to have a noticeable impact.

I think you must be referring to ORION SE?

Yes, you're right.

Yes. I mean, ORION obviously is our flagship product -- yes, ORION SE, as I said, we've got a lot of customers that are still buying it and putting it out there for test. So I think it's going to take a while yet. We might start seeing some significant sales of it later in this year or early next year.

Got it, okay. And then just wanted to clarify something, so the way you're breaking out the business segments now, so the municipal segment, I mean, that...

They're not segments.

We're going to stop you. It's not segments.

They're product...

Categories or product lines. We should think about the municipal, I mean, that is basically the old water bucket...

Water meters.

That's exactly what it is, water meters and the radios, Eric.

Yes, right.

And so then your old specialty bucket, you're breaking that...

Right. What's happening is we're taking the old specialty bucket, and we're splitting it in 2. And one of it is in the industrial flow, which is we've now added Racine to and other one is specialty and what's left there is the gas radios, the valves and Racine's concrete products.

And I'll also mention, Eric, is that we had certain categories in water like impeller meters used on golf courses that we're now also including in industrial.

So I guess the point Richard is making is that our water business is not just municipal water. There's a good piece of that industrial flow that measures water. It's just doesn't measure municipal water, it measures water on gulf courses, water on fire trucks, a lot of other things like that. But when people say, "Well, how much of Badger Meter's business is water?" It isn't just a municipal number. There's also another piece. And it's about 70%, 75%

Probably the total company...

Or it's over 80%, I'm sorry. They're telling me it's over 80%.

[Operator Instructions] And our next question comes from the line of John Quealy with Canaccord Adams.

So if we can go back to the tough Q2 comp. Rich and Rick, with another $10 million of Racine with what looks to be another $0.03 of accretion, that doesn't seem to be that insurmountable. I know last year Q2 was strong, but we should be in the ballpark anyway. Rich and Rick, how many exactly -- what we're talking about when we're talking about a tough comp?

Well tough comp last year second quarter was record sales and I think we just missed record earnings by probably less than $100,000 or something along those lines, okay. And so in last year's second quarter, it was greatly influenced by sales of gas radios, if I recall, which as we've talked, we don't see anything replacing that this year. So that's part of the tough comp too. We probably -- it's probably not going to be hard to beat last year necessarily with Racine in there. But if you look at organic, what would happen -- that's a little bit tougher for us.

And then -- and I'm sorry. Rick, you, you may have said this. The amortization for Racine, what did you estimate $2 million a year but you still have to nail it down, is that right?

Well I mean, our preliminary estimate of the value of what we acquired and this is still going through all the valuation and the auditors and the like, but roughly about $30 million of intangibles were identified. And if you just assume, which we have for the first quarter, about a 15-year life, okay, that's about $2 million a year amortization.

Right, and you already included 2/3 of the quarter given...

2/3 of the quarter, correct. We may have to tweak that in the future once we've nailed down the exact amount of these things. I don't think it's going to vary significantly from our original estimates but we always use those words just to protect ourselves going forward in case there's some minor adjustments going forward so.

And then lastly, buyback, is that going to stay ongoing or what do you think about it?

Well, I would say, and I can say this since it's a public call. Through yesterday, we're already north of $22 million out of the $30 million and we probably purchased already 676,000 shares. So we don't have much. We've got a little more than $7.5 million to go under this program. The stock is up this morning so the buyback may be slowing down for a while. We'll have to see what happens there. And I think we want to take some time and understand Racine Federated fully before we decide if we're going to do anything further in the future.

And our next question comes from the line of Brian Rafn with Morgan Dempsey.

Just a couple more. A question for you, Rich. From a standpoint of an acquisition, 50,000 for strategic is there any possibility of Badger Meter looking at vertically integrating and getting into the manufacture of the radio boards or is Diehl such a big player out of Germany that, that's just not something you guys would get into?

No. It's not something we're looking to get into and it's not because of Diehl. In fact, we make a lot of our radio boards with a lot of other companies. The fact is the radio boards businesses is a very specialized business. It's not our core competence, making boards. And frankly, there's a lot of capacity in the board making industry. So we're not finding it hard to find people who want to make our boards and would give us very competitive quotes for our boards. So I don't think it's a business we have to get into to protect ourselves because there might be a capacity crunch. And I don't think it's a business that we want to get into because we're particularly good at it. I think we're better off outsourcing our radio boards.

Okay, good enough. And then you guys have always talked about the transition in headcount at Brown Deer kind of the natural attrition from the factory floor. Are you doing any hiring in the engineering accounts in the corporate area or...

Yes. The short answer is yes. The area where we have been consistently adding people is in the non-shop floor area. We've been adding people in the sales and marketing area, in the administrative areas as we've been growing, and we would expect continue to do that and continue to do that in the Milwaukee headquarters.

Ladies and gentlemen, with no further questions, this concludes today's question-and-answer session. I would now like to turn the call back over to Mr. Rick Meeusen, Chairman, President and CEO, for closing remarks.

Thank you. Rick said I should feel flattered that I was called Rick instead of Rich, but that's okay. No, I just want to say that we were obviously very pleased with the quarter. We did view 2011 as kind of an aberration. We run into those once in a while. It's either the economy or other things that are affecting our business. The municipals are very sensitive to that kind of thing, and we felt that, that's way we had a weaker 2011. We always believe that we would see the strength coming back in 2012. I think the first quarter has proved that. And we're very optimistic that we've now seen a return to normal buying patterns. So with that, I want to thank everybody for joining us, and we will talk to you again on our next call. Thank you.

Ladies and gentlemen, we thank you for your participation in today's conference. This concludes the presentation, and you may now disconnect. Have a good day.